What Is Debt Restructuring?

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Definition

Debt restructuring is the process of renegotiating the terms of your debt so your payments are more manageable. This can include extending the repayment period, lowering the interest rate, or reducing the overall balance owed.

Key Takeaways

Debt restructuring usually happens when you’re at risk of defaulting on a loan. You work with your lender to change the terms of your debt agreement.
Debt restructuring can result in a lower interest rate, longer repayment period, or reduced loan balance.
Debt restructuring is often a last resort before filing bankruptcy. It can be used by individuals, companies, or governments.

How Debt Restructuring Works

Debt restructuring, also known as troubled debt restructuring, is often the last resort before filing bankruptcy. It involves contacting your lenders and creditors to see if they can lower your interest rate or extend your repayment period so you have more breathing room in your budget.

Unlike bankruptcy, you still pay some (or all) of your debts when you restructure. You just have more lenient terms. Creditors are often willing to work with you on restructuring your debt because they will receive more money than if you filed for bankruptcy.

You can restructure almost any type of debt, including credit cards, student loans, mortgages, and auto loans.

Note

If you’re struggling financially and considering debt restructuring, it may be helpful to hire a debt relief company to negotiate on your behalf. But beware: There are scammers who prey on financially vulnerable families.

Example of Debt Restructuring

Say you’re falling behind on your mortgage payments. You call your lender and explain your situation. They agree to help make your payments more manageable. Your lender could do this by extending the length of mortgage, lowering the interest rate, or changing the type of loan. For example, if you have a variable-rate mortgage, your lender may agree to modify it into a fixed-rate mortgage so you have a predictable monthly payment.

Note

When going through the debt restructuring process, don’t be afraid to negotiate new terms with lenders. You may be able to get certain fees waived or a lower monthly payment.

Types of Debt Restructuring

There are several types of debt restructuring. Some are for individuals and families while others are reserved for companies.

Loan modification: A loan modification is a change to the terms of your loan, such as the interest rate, monthly payment, or length of the loan. Loan modifications are typically used to make your mortgage payments more manageable.
Informal debt repayment agreements: You and your creditor can negotiate informally to come up with a new repayment plan. This option is usually only available if you're behind on your payments but not in default.
Formal debt repayment agreements: Formal debt repayment agreements, also known as special forbearance agreements, are legally binding contracts between you and your creditors. These agreements can be used to restructure both secured and unsecured debt.
Debt settlement: Debt settlement is when you negotiate with your creditors to pay less than what you owe. This is typically only an option if you're unable to make your payments and are facing bankruptcy.
Debt-for-equity swap: This happens when a creditor or lender forgives part of a company's debt in exchange for a stake in that company.

Bondholder haircuts: In this type of restructuring, bondholders agree to take a loss on the value of their bonds. This can happen if the company is not doing well and is unable to make its interest payments.
Debt-for-debt swap: This is when a company takes on new debt to pay off its existing debt. This can be done by issuing new bonds or taking out a loan.

Each type of debt restructuring has its own advantages and disadvantages that you'll need to consider before making a decision.

Pros and Cons of Debt Restructuring

Pros

Provides financial relief
You can avoid defaulting on your loan

Cons

Negotiating takes a lot of time and effort
It's not always successful

Pros Explained

Provides financial relief: Debt restructuring can help lower your monthly payment or extend your repayment period, giving you some breathing room in your budget.
You can avoid defaulting on your loan: If you're struggling to make your monthly payments, debt restructuring can extend your repayment period, lower your interest rate, or even have some of your balance forgiven.

Cons Explained

Negotiating takes a lot of time and effort: One of the main disadvantages of debt restructuring is that it can take a lot of time and effort to negotiate with your creditors. This can be especially true if you have a lot of debt.
It's not always successful: While debt restructuring can be a good way to get more favorable terms from your creditors, it's not always successful. Your creditors may not be willing to agree to new terms, or you may not be able to reach an agreement that works for both sides.

Debt Restructuring vs. Bankruptcy

When you restructure your debt, you work with your creditors to come up with a new repayment plan. This can help you get back on track with your payments and avoid defaulting on your loan.

Bankruptcy, on the other hand, is a legal process that can discharge some or all of your debts. This can give you a fresh start, but filing for bankruptcy is expensive and will stay on your credit report for seven to 10 years.

Debt Restructuring	Bankruptcy
Reduces debt and changes payment terms	Cancels all or some of your debts
Settles debts out of court	Settles debts in court
Less expensive than bankruptcy	More expensive than debt restructuring due to court and legal fees
Can hurt your credit if you stop making payments during the restructuring period or are restructuring after a bankruptcy	Can hurt your credit for up to 10 years

Debt Restructuring vs. Refinancing

Refinancing your debt means taking out a new loan to pay off your existing debts. This can help you get a lower interest rate and lower monthly payments. You will, however, have to qualify for the new loan based on your credit score and income.

Debt restructuring is different in that you work with your creditors to come up with a new repayment plan. You typically restructure when you feel stretched thin by your finances and want to avoid defaulting on your loan.

Debt Restructuring	Refinancing
Goal is to get a repayment plan extension or debt reduction	Goal is to save money by getting a new loan (often a mortgage) with better terms
Usually happens due to a financial hardship	Usually happens when you have a good credit score and healthy finances

Alternatives to Debt Restructuring

If you're thinking debt restructuring isn't right for you, here are three alternatives to consider.

Debt Consolidation

Debt consolidation is when you take out a new loan to pay off your existing debt. This can be a good option if you're struggling to make multiple monthly payments. But it's important to understand that debt consolidation doesn't reduce the total amount of debt you owe.

Debt Deferment

Debt deferment allows you to temporarily stop making payments on your debt. This can be a good option if you're experiencing financial hardship and need some time to get back on your feet. But interest may continue to accrue on your debt during the deferment period, which can mean you end up owing more money in the long run.

Bankruptcy

Filing for bankruptcy should be a last resort. It can have a major impact on your credit score and make it very difficult to get approved for new loans or lines of credit. However, if you're struggling to pay your debts, it may be the best option for you.

Note

Thinking about bankruptcy? Weigh all the alternatives before making a decision. You can also talk to a bankruptcy attorney or credit counseling agency to see which is the right choice for you.

Frequently Asked Questions (FAQs)

Is debt restructuring a good idea?

Debt restructuring can be a good idea for people or businesses who are struggling to make their debt payments on time. It can help you get your finances back on track and avoid defaulting on your debt. But it usually takes a while to do, which is why many people consider hiring a debt relief company for help.

How can a company restructure its debt?

A company can restructure commercial debt similar to how an individual would restructure consumer debt. The first step is to contact your creditors or lenders, explain your situation, and see if they can offer help. If they agree to move forward, you can negotiate the terms of your new contract before formally signing the agreement.

What are the types of debt restructuring?

Individuals looking to restructure debt may want to consider loan modifications, informal debt repayment agreements, and debt settlements. There are also debt relief programs to look into. Businesses may want to consider debt-for-equity swaps, bondholder haircuts, debt-for-debt swaps, and informal agreements, depending on the size and complexity of the business.

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Sources

The Balance uses only high-quality sources, including peer-reviewed studies, to support the facts within our articles. Read our editorial process to learn more about how we fact-check and keep our content accurate, reliable, and trustworthy.

Michigan Department of Insurance and Financial Services. “Workout Loans and Troubled Debt Restructurings.”
Federal Trade Commission. “Debt Relief Service and Credit Repair Scams.”
Consumer Financial Protection Bureau. “What Are Debt Settlement/Debt Relief Services and Should I Use Them?”